Chapter 4- Inventory Management
annual ordering costs
(D/Q)*S Where D = annual demand, Q = order quantity (units), and S = ordering costs (per order)
EOQ
(Economic Order Quantity) a quantitative decision model based on the trade-off b/t annual inventory carrying costs and annual order costs sq[(2*D*S)/H)] Where D = annual demand, Q = order quantity (units), and S = ordering costs (per order)
Reorder Point
(ROP) the lowest inventory level at which a new order must be placed to avoid a stockout - set at a level that provides enough inventory so demand is covered during the lead time (L) needed to replenish inventory
inventory costs
- direct costs - indirect costs - fixed costs - variable costs - order costs - carrying costs
Common Inventory Ordering System Categories
Fixed-Order Quantity System Fixed-Time Period System
strategic stock
additional inventory beyond cycle and safety stock, generally used for a very specific purpose or future event, and for a defined period of time
storage capacity
company doesn't have sufficient storage capacity to handle at one time
Individual Item Purchase Price Discounts
discounts for ordering purchase price discounts; if volume discount is sufficient to offset the added cost from carrying additional inventory, then order a larger volume may be desirable
Inventory policy
establishing target inventory levels for all products and materials 1. When to review? 2. When to order? 3. How much to order?
effects of having too much inventory
financial resources tied up in inventory underlying problems being hidden rather than being exposed and solved no incentive for process improvements
Transportation Freight-Rate Discounts
ordering a larger quantity may mean that you can take advantage of Transportation Freight Rate Discounts which will lower per unit costs
effects of having too little inventory
production disruptions longer delivery replenishment lead times reduced responsiveness
raw materials
purchased items or extracted materials that are converted via the manufacturing process into components and products
4 categories of inventory
raw materials work-in-progress (WIP) finished goods maintenance, repair, and operating (MRO) supplies
unitization
supplier may require company to order an item in full pack, case, or pallet configurations
production lot size
supplier may require the company to order an item in full production lot sizes
Annual carrying costs
(Q/2)*H Where Q = order quantity and H = holding costs (per unit)
MRO
(maintenance, repair, and operating) items used in support of general operations and maintenance such as maintenance supplies, spare parts, and consumables used in the manufacturing process and supporting operations
Multiple-Item Purchase Price Discounts
based on total volume across all the items purchased rather than just an individual item's volume
Bin System
inventory system that uses either one or two bins to hold quantity of the item being inventoried; mainly used for small or low value items
cycle stock
inventory that a company builds to satisfy its immediate demand; gradually depletes as customer orders are received
safety stock
inventory that is above and beyond what is actually needed to meet anticipated demand
obsolete inventory
inventory that is expired, damaged, or no longer needed; will never be used or sold at full value
order costs
labor costs associated with placing an order for inventory and the cost of receiving the order; incurred each time an order is placed
inventory turnover
the # of times that an inventory cycles or "turns over", during the year *the more the better ratio = COGS/Average Inventory @ Cost
units
the # of units available
dollars
the amount of dollars tied up in inventory
Fixed-Time Period System
inventory is checked in fixed time periods against a target inventory level - if inventory is less than target, a quantity necessary to bring inventory back up to the target level is ordered Q = R - IP where Q = order quantity, R = target inventory level, and IP = inventory position
continuous reiew system
inventory levels are continuously reviewed; as soon as inventory falls below a pre-determined level, a replenishment order is triggered
periodic review system
inventory levels are reviewed at a set frequency; at the time of review, if the stock levels are below the pre-determined level, an order for replenishment is placed, other wise no action is taken until the next cycle
pipeline inventory
inventory that is already out in the market held by wholesalers, distributors, retailers, and even consumers; also in-transit
Absolute Inventory Value
the value of the inventory at either its cost or its market value
indirect costs
cannot be traced directly to the unit produced
weeks of supply
(avg. on-hand inventory)/(avg weekly usage)
Other Types of inventory Systems
- ABC System - Bin System - Base Stock Level System - "Single-Period" Inventory Model
inventory turns
(COGS)/(avg. inventory value)
2 Models for Determining When to Review
1. Continuous Review System 2. Periodic Review System
3 Levels of Internal Inventory
1. Cycle Stock 2. Safety Stock 3. Strategic Stock
Why hold inventory?
1. to meet customer demand (cycle stock) 2. to buffer against uncertainty in demand and/or supply (safety stock) 3. to decouple supply from demand (strategic stock) 4. to decouple dependencies in the supply chain
measures of inventory investment
Absolute inventory Value Inventory Turnover
Volume Economies of Scale
Individual Item Purchase Price Discounts Multiple-Item Purchase Price Discounts Transportation Freight-Rate Discounts
What is the right amount of inventory?
It depends on the supply chain strategy and set up, the types of products, etc
Constraints
Limited Capital storage capacity transportation obsolescence production lot size unitization
Total Cost
Purchase Cost + Order Cost + Carrying Cost
Inventory Management
The function of planning and controlling inventories Goal is to help a company be more profitable by lowering COGs and/or by increasing sales
Practical Considerations of EOQ
Volume Economies of Scale Constraints
Fixed-Order Quantity System
a continuous inventory review system in which the same order quantity is used from order to order - when inventory position drops to a predetermined reorder point, a predetermined fixed order quantity is placed
work-in-process
a good or goods in various stages of completion throughout the plant, spanning from raw material that has been released for initial processing up to fully processed material awaiting final inspection and acceptance as finished goods
single-period model
a type of inventory system is only ordered for one-time stocking - goal is to maximize profits Ex) Newspaper stands
Base Stock Level System
a type of inventory system that issues an order whenever a withdrawal is made from inventory
service inventory
activities carried out in advance of the customer's arrival
ABC system
classifies inventory based on the degree of importance A: Highest Value B: Moderate Value C: Least Valuable
Limited Capital
company doesn't have sufficient available funds to purchase at one time
carrying costs
costs for physically having inventory on-site and for maintaining the infrastructure needed to store the inventory and to secure and insure it over time; incurred for holding inventory
variable costs
dependent on the unit volume
direct costs
directly traceable to unit produced
barcode systems
help businesses track products and stock levels for inventory management Types: Linear 1D, 2D, barcode reader
fixed costs
independent of hte unit volume produced
transportation
item being ordered and transported may require specialized or dedicated transportation, impacting the quantity per order
finished goods
items on which all manufacturing operations, including final testing, have been completed. These items are available for sale and/or shipment to the customer
inventory
the quantities of goods and materials that are held in stock
common metrics for inventory
units, dollars, weeks of supply, inventory turns